FIN704 Assignment 1 Solution and Discussion

Semester Fall 2019 Managerial Accounting (FIN704) Assignment
Due Date: 20th November,2019
Case:
Total Marks: 20
You are working as cost consultant on costing matters of the business of Mr.Xee who is a manufacturer of automobile spare parts. Mr.Xee is a main supplier of three renowned car manufacturing companies in the country. Currently, he is manufacturing different sub-parts and accessories related to mid-range cars in his factory. One of such parts is the “Cam Shaft” that constitutes 1/6 of his annual production. This part is sold to the car manufacturers at a unit price of Rs. 36,000. For the recent quarter, the unit production cost of “Cam Shaft” is here as under:
Description
Raw Material Milling Grinding Chrome Coating Polishing Packaging
Rs.
14,000 4,000 6,500 3,000 1500 200
Apart from production cost, he is also paying Rs. 20 million and Rs. 28 million as wages and factory rent respectively. Further, Rs. 6 million has been traced as other fixed cost.
Required:
• Compute factory’s Break Even Point (BEP) in terms of total sales and the number of units to be sold. (5 marks)
• Would there be any change in BEP if the ratio between variable cost and sales increases assuming no change in the fixed cost. Support your answer with logical reasoning.
(5 marks)
• Currently, at its full capacity, the factory is producing and selling 160,000 units of Cam Shaft annually. Mr.Xee is convinced to reduce the selling price by 10% which will result a 25% increase in the sales units. Would this decision be a favorable or unfavorable? Justify facts with working of current and proposed net operating income for the product.
(5+5 = 10 marks)

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Semester Fall 2019 Managerial Accounting (FIN704) Assignment
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Semester Fall 2019 Managerial Accounting (FIN704) Assignment
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Solution:
Answer No.1
Required Formula
BEPUnits = FC / (S.PPer Unit – VCPer Unit) Or Where
BEPUnits = Break Even Point in Units
FC = Fixed Cost
S.PPer Unit = Selling Price Per Unit
VCPer Unit = Variable Cost Per Unit
CMPer Unit = Contribution Margin Per Unit By putting values
BEPUnits = 54,000,000 / (36,000 – 29,200) BEPUnits = 54,000,000 / 6800
BEPUnits = 7941.18 or 7941 Units
Total Marks: 20
Semester Fall 2019 Managerial Accounting (FIN704) Assignment Solution

FC / CMPer Unit
BEPSales = BEPUnits * S.PPer Unit
Alternatively
BEPSales = FC / Contribution Margin to Sales Ratio
BEPSales = 7941 * 36,000 = Rs. 285,876,000 or Rs.285.88 million
Alternatively
BEPSales = 54,000,000 / (6,800/36,000 * 100) = 54,000,000 / 18.889% = Rs.285.88 million

b5631087-a658-4320-8d32-57c66f5ccb30-image.png

Answer 2.
Result will be higher break-even point if variable cost per Cam Shaft increases as a percentage of selling price.
Reason is that contribution margin will be decreasing on other hand if variable expenses will be increasing as a percentage of selling price. This means that more Cam Shaft units would be required to sell in order to generate enough contribution margins to cover fixed cost of the business.

Answer 3.
b09a3521-04da-4635-8b2d-b827f40a7de6-image.png

Assignment Solution
Net Operating Income 1,034 586
Required Working:
Current Sales = 160,000 Units
New Proposed Sales Volume = 160,000 * 125 / 100 = 200,000 Units Reduced Selling Price = 36,000 * 90 / 100 = Rs. 32,400 Per Unit
As, we can observe from the comparison of present and proposed structure, results are not favorable if factory decides to change the structure and increase the sales volume by reduction in selling price.25% increase in volume is not enough to off-set 10% reduction in selling price.
We can see a reduction in contribution margin both in terms of per unit (from Rs. 6,800 to Rs.3,200) and in total (from Rs. 1,088 million to Rs. 640 million) if factory decides to increase its sales volume up-to 200,000 units of Cam Shaft. On the other hand, fixed cost (Rs. 54 million) is same in both structures. So, less contribution margin will be available to cover fixed cost which ultimately decreases the net operating income from Rs. 1,034 million to Rs. 586 million (almost a 43.32% reduction ((586-1,034)/1,034).
Hence, 10% reduction in selling price will increase 25% sales volume but there will be reduction in contribution margin and net operating income of the business which is not favorable at all.

Solution:
Answer No.1
Required Formula
BEPUnits = FC / (S.PPer Unit – VCPer Unit) Or Where
BEPUnits = Break Even Point in Units
FC = Fixed Cost
S.PPer Unit = Selling Price Per Unit
VCPer Unit = Variable Cost Per Unit
CMPer Unit = Contribution Margin Per Unit By putting values
BEPUnits = 54,000,000 / (36,000 – 29,200) BEPUnits = 54,000,000 / 6800
BEPUnits = 7941.18 or 7941 Units
Total Marks: 20
Semester Fall 2019 Managerial Accounting (FIN704) Assignment Solution

FC / CMPer Unit
BEPSales = BEPUnits * S.PPer Unit
Alternatively
BEPSales = FC / Contribution Margin to Sales Ratio
BEPSales = 7941 * 36,000 = Rs. 285,876,000 or Rs.285.88 million
Alternatively
BEPSales = 54,000,000 / (6,800/36,000 * 100) = 54,000,000 / 18.889% = Rs.285.88 million

b5631087-a658-4320-8d32-57c66f5ccb30-image.png

Answer 2.
Result will be higher break-even point if variable cost per Cam Shaft increases as a percentage of selling price.
Reason is that contribution margin will be decreasing on other hand if variable expenses will be increasing as a percentage of selling price. This means that more Cam Shaft units would be required to sell in order to generate enough contribution margins to cover fixed cost of the business.

Answer 3.
b09a3521-04da-4635-8b2d-b827f40a7de6-image.png

Assignment Solution
Net Operating Income 1,034 586
Required Working:
Current Sales = 160,000 Units
New Proposed Sales Volume = 160,000 * 125 / 100 = 200,000 Units Reduced Selling Price = 36,000 * 90 / 100 = Rs. 32,400 Per Unit
As, we can observe from the comparison of present and proposed structure, results are not favorable if factory decides to change the structure and increase the sales volume by reduction in selling price.25% increase in volume is not enough to off-set 10% reduction in selling price.
We can see a reduction in contribution margin both in terms of per unit (from Rs. 6,800 to Rs.3,200) and in total (from Rs. 1,088 million to Rs. 640 million) if factory decides to increase its sales volume up-to 200,000 units of Cam Shaft. On the other hand, fixed cost (Rs. 54 million) is same in both structures. So, less contribution margin will be available to cover fixed cost which ultimately decreases the net operating income from Rs. 1,034 million to Rs. 586 million (almost a 43.32% reduction ((586-1,034)/1,034).
Hence, 10% reduction in selling price will increase 25% sales volume but there will be reduction in contribution margin and net operating income of the business which is not favorable at all.